Why optimism is your worst investing enemy

Commentary: Wall Street loves how easily it can manipulate you

SAN LUIS OBISPO, Calif. (MarketWatch) — Yes, the investor’s brain is its own worst enemy: “During every bubble, investors truncate historical data to build a model that shows them exactly what they want to see: low risk and big returns,” says Motley Fool’s Morgan Housel. “When you want to believe something, you’ll do what is necessary to convince yourself that it’s true. Like ignoring historical data that gets in the way.”

Why? Because the brains of Wall Street gurus and brains of Main Street investors are in a symbiotic relationship, a “dance of death.” Wall Street gurus know the investor’s brain is gullible, easy to manipulate, will ignore facts, historical data, rational judgment, anything to to stay optimistic, even when a crash is imminent, obvious, even in progress. It’s in our DNA, our brains, it’s our nature. Yes, American investors are born optimists.

So are Wall Street gurus. Years ago we did a little research study. Turns out that 93% of time Wall Street is bullish. And today, from what we see in the field of behavioral economics, it’s also true that the brains of America’s 95 million investors are also 93% optimistic.

Get it? Americans are inherently optimistic, blind optimists. We dismiss facts, block reality, deny history, crashes, meltdowns. Wall Street gurus do it. Main Street’s 95 million investors buy the spin. We secretly want to be deceived. Even in real bad times, deep inside we trust in a better future, want the good news, optimism, happy talk, bull markets. We desperately want to forget the harsh reality of the past. So we deny stuff.

Wall Street knows this too. So they profile you. Yes, they know you’re a sucker for happy talk.

Warning: This symbiotic relationship is doomed to repeat, forever. And the bubbles will get bigger, we’ll have another, bigger meltdown, even another Great Depression. So expect Wall Street (and their Washington buddies) to just keep feeding sound bites to the media to manipulate the brains of Main Street’s investors. It’s in their DNA. It’s in your brains to trust.

Here are three historical reminders with examples of 26 famous happy-talking gurus:

2007-2008 bank credit meltdown — the top nine happy-talking gurus

BusinessWeek, Kiplinger’s and USA Today all reported on the false predictions made just before the 2008 subprime credit meltdown spread rapidly across America and the world:

‘Mad Money’ Jim Cramer: “Bye-bye bear market, say hello to the bull.”

Ken Fisher: “This year will end in the plus column ... so keep buying.”

Ben Bernanke: No “serious failures among large internationally active banks.”

Back during that recession, while Wall Street was losing $8 trillion market cap, we reviewed a 2003 book, Bull! 144 Statements from the Market’s Fallen Prophets, Here are a few of the more notable bits of happy-talk that noted gurus were spreading as the market slowly disintegrated for 30-months from 11,722 in early 2000 down to 7286 in October 2002. They prattled on. Ironically, today many of these ‘fallen prophets’ are still misleading investors:

James Glassman, author ‘Dow 36,000’: “What is dangerous is for Americans not to be in the market. We’re going to reach a point where stocks are correctly priced … not a bubble. … market is undervalued.” (October 1999)

Larry Kudlow, CNBC host “This correction will run its course until the middle of the year. ... not even Greenspan can stop the Internet economy.” (February 2000)

Cramer: “SUNW probably has the best near-term outlook of any company I know.” (September 2000)

Lehman’s Jeffrey Applegate: “The bulk of the correction is behind us, so now is the time to be offensive, not defensive.” (December 2000)

Alan Greenspan: “The 3- to 5-year earnings projections of more than a thousand analysts … have generally held firm. Such expectations, should they persist, bode well for continued capital deepening and sustained growth.” (December 2000)

Suze Orman: “The QQQ, they’re a buy. They may go down, but if you dollar-cost average, where you put money every single month into them … in the long run, it’s the way to play the Nasdaq.” (January 2001)

CNBC reporter Maria Bartiromo: “The individual out there is actually not throwing money at things that they do not understand, and is actually using the news and using the information out there to make smart decisions.” (March 2001)

Goldman Sachs’s Abby Joseph Cohen: “The time to be nervous was a year ago. The S&P then was overvalued, it’s now undervalued.” (April 2001)

Lou Dobbs, CNN: “Let me make it very clear. I’m a bull, on the market, on the economy. And let me repeat, I am a bull.” (August 2001)

Kudlow: “The shock therapy of a decisive war will elevate the stock market by a couple thousand points,” with Dow 35,000 by 2010. (June 2002)

All propaganda. Speculation. Hype. No facts. Just happy-talk designed to manipulate the investor’s brain. In fact, the Dow bottomed only after a 30-month bear market, in October 2002 at 7,286. Then the Iraq War was launched in April 2003, driving America deep into debt.

1929 Crash and 1930’s Depression — seven early happy-talking gurus

Next, go back to the Crash of ’29 and the Great Depression. Notice the pattern: Optimism at the top, leaders and gurus. Optimism among investors. Yes, we want to believe. Our brains are gullible, want to be deceived. We want to trust in a better future, want the good news, optimism, happy talk, bull markets. Reality makes us desperate for happy-talk. We want to deny the harsh reality of the past.

Listen to what investors trusted around the 1929 Crash:

Irving Fisher, Yale Ph.D. in economics: “Stock prices have reached what looks like a permanently high plateau. I do not feel there will be soon if ever a 50 or 60 point break from present levels ... I expect to see the stock market a good deal higher within a few months.” (Oct. 17, 1929, just days before the Crash)

Goodbody market-letter in New York Times: “We feel that fundamentally Wall Street is sound, and that for people who can afford to pay for them outright, good stocks are cheap at these prices.” (Oct. 25, 1929)

BusinessWeek: “The Wall Street crash doesn’t mean that there will be any general or serious business depression ... For six years American business has been diverting a substantial part of its attention, its energies and its resources on the speculative game... Now that irrelevant, alien and hazardous adventure is over. Business has come home again, back to its job, providentially unscathed, sound in wind and limb, financially stronger than ever before.” (Nov. 2, 1929)

Harvard Economic Society: “A serious depression seems improbable ... recovery of business next spring, with further improvement in the fall.” (Nov. 10, 1929)

Treasury Secretary Andrew W. Mellon: “I see nothing in the present situation that is either menacing or warrants pessimism ... I have every confidence that there will be a revival of activity in the spring, and that during this coming year the country will make steady progress.” (Dec. 31, 1929)

Wall Street Journal: As the Dow fell from 298 to Dow 41:“Chase National Bank says the current conditions of very easy credit and poor business have always been a buying opportunity in the past. Absolutely confident that any list of good stocks will have good gains by end of 1931 and probably show a profit by end of 1930.” (June 1930)

President Herbert Hoover: “The depression is over.” (June 1930)

Yes, the symbiotic relationship between the brains of Wall Street gurus and the brains of average investors really is locked in our DNA and our history. Wall Street knows this, has you profiled, knows you’re easily manipulated by happy talk and mindless optimism. There’s actually little you can do ... except avoid their casinos.

Paul
B. Farrell

Paul B. Farrell is a MarketWatch columnist based in San Luis Obispo, Calif. Follow him on Twitter @MKTWFarrell.

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